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Banks' Exposure to Interest Rate Risk and the Transmission of Monetary Policy

60 Pages Posted: 19 Feb 2013 Last revised: 25 Aug 2017

Matthieu Gomez

Columbia University, Graduate School of Arts and Sciences, Department of Economics

Augustin Landier

Toulouse School of Economics

David Alexandre Sraer

University of California, Berkeley; Princeton University

David Thesmar

Massachusetts Institute of Technology (MIT) - Economics, Finance, Accounting (EFA)

Date Written: April 9, 2016

Abstract

We show that banks' exposure to interest rate risk, or income gap, plays a crucial role in monetary policy transmission. While banks have, on average, positive levels of income gap - their assets are more sensitive to interest rate changes than their liabilities - there is substantial heterogeneity in the cross-section of banks in how exposed they are to interest rate risk. In a first step, we show that the sensitivity of bank profits to interest rates increases significantly with their income gap, even when banks use interest rate derivatives. In a second step, we show that the income gap also predicts the sensitivity of bank lending to interest rates, both for commercial & industrial loans and for mortgages. Quantitatively, a 100 basis point increase in the Fed funds rate leads a bank at the 75th percentile of the income gap distribution to increase lending by about 1.6 percentage points annually relative to a bank at the 25th percentile. We conclude that banks' exposure to interest rate risk is an important determinant of the lending channel.

Keywords: Interest rate risk, monetary policy, bank lending

JEL Classification: E52, G21, E44

Suggested Citation

Gomez, Matthieu and Landier, Augustin and Sraer, David Alexandre and Thesmar, David, Banks' Exposure to Interest Rate Risk and the Transmission of Monetary Policy (April 9, 2016). Available at SSRN: https://ssrn.com/abstract=2220360 or http://dx.doi.org/10.2139/ssrn.2220360

Matthieu Gomez

Columbia University, Graduate School of Arts and Sciences, Department of Economics ( email )

420 W. 118th Street
New York, NY 10027
United States

Augustin Landier

Toulouse School of Economics ( email )

Place Anatole-France
Toulouse Cedex, F-31042
France

David Sraer

University of California, Berkeley ( email )

310 Barrows Hall
Berkeley, CA 94720
United States

Princeton University ( email )

22 Chambers Street
Princeton, NJ 08544
United States

David Thesmar (Contact Author)

Massachusetts Institute of Technology (MIT) - Economics, Finance, Accounting (EFA) ( email )

77 Massachusetts Avenue
Cambridge, MA 02139-4307
United States
16172259767 (Phone)

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